GCC Bonds of Convenience

Low oil revenues are prompting Gulf governments to issue more bonds, but the revenues for investment banks remain limited

Across the Gulf, as governments look to find ways of balancing their budgets at a time of low oil prices, sovereign bond issues are on the increase. The Saudi government issued bonds in July for the first time since 2007. Since then Oman has followed suit and Bahrain is expected to follow suit in the near future. Qatar, meanwhile, has been issuing bonds for some time now and continues to find them easy to sell: A 5 billion Qatari rial ($4.1 billion) bond issue in September was four times oversubscribed, according to Samba. “We are definitely seeing a trend of sovereigns issuing bonds in order to offset their lower reserves as a consequence of the oil prices,” says Alberto Palombi, head of the Middle East & North Africa region at UBS.

There are some advantages beyond simply raising money. Bond issues can help to foster a local debt capital market, which is a positive development in terms of the maturity of the financial system. It represents a useful opportunity for investment banks too, although not necessarily a particularly lucrative one. Profits on such deals can be limited, which is one reason that some big international banks are not heavily involved. “For investment banks, debt capital market transactions typically don’t generate significant fees, relative to some of the other products that we offer,” says Aasim Qureshi, managing director of QNB Capital, the investment banking arm of Qatar National Bank. “It is important to us in terms of maintaining a relationship with issuers and with the international investment community, but from a fee-generating perspective the margins and levels of fees are very low.”

“It is easy for Saudi banks to finance the bond issues that are coming to the market at the moment. They are capable of financing both government and private sector needs, so there is no ‘crowding out’ effect from the government bond programme. ”

Still, the increase in issuances is providing fresh business. With most Gulf governments enjoying low debt levels, there is also little problem in attracting investors. Saudi Arabia had gross government debts of just 1.6 per cent of GDP last year, according to the IMF, while the equivalent figures for Oman and Kuwait were around 5 and 7 per cent respectively. For the UAE it was 12 per cent. The figures for Bahrain and Qatar are higher, at 44 and 32 per cent respectively, but still at comfortable levels. London-based Capital Economics says that Riyadh could issue debt equal to around 16 per cent of GDP domestically without generating much adverse economic impact. Oman also looks to be in a comfortable position, according to the ratings agencies. “Even factoring in the reduced government revenues and higher government debt over the next one to three years, Oman’s debt metrics will still compare favourably with [other A-rated countries],” says Steffen Dyck, a senior analyst at Moody’s.

In any case, the chances are that far more issues will follow in the coming quarters if oil prices remain at or below $70 a barrel as many observers expect. Qureshi suggests that government-related entities may also start to issue their own bonds, particularly in places such as Dubai and Qatar where massive infrastructure build-outs are underway in preparation for Expo 2020 and the 2022 FIFA World Cup. “We will see more debt,” says Paul Gamble, a senior director at Fitch Ratings. “There’s very strong demand for Saudi debt among local banks and local banks are pretty liquid so we don’t see any crowding out. In terms of Oman we are less certain of their financing policy but they have started increasing debt.”

The liquidity in the system means that there should be few problems in absorbing what is due to come to the market in the near term. However, some warn that if there is a significant rise in sovereign debt issuance, then a wider range of buyers will need to be targeted. “It is easy for Saudi banks to finance the bond issues that are coming to the market at the moment. They are capable of financing both government and private sector needs, so there is no ‘crowding out’ effect from the government bond programme. But if the government raises more than say 300 billion Saudi riyals ($80 billion) it will be more difficult. Then they may need to open the programme out to more domestic investment banks, insurance companies and family offices,” says Fahad Al-Turki, chief economist at Riyadh-based Jadwa Investment.

But while sovereign issues are increasing, other areas of the bond market are struggling. S&P says that the drop in oil and gas prices triggered a 58 per cent reduction in corporate and infrastructure bond and sukuk issuances over the 12 months to the end of August, compared with the preceding 12 months. And even some issues that are launched do not succeed. For example, in September Abu Dhabi Commercial Bank cancelled its bond issue. “Who would have thought they would pull the transaction, but they pulled it because the market is tight,” says one investment banker in the region. “Hopefully the current market is not a long-term scenario.”